1 Keith is wondering whether or not to insure the value of his house against destruction. His friend Georgia has told him that it is a waste of money. Georgia argues that the insurance company sets its premiums (how much it charges for insurance) to take account of the probability of destruction, plus an extra fee for its profit. Georgia argues that house-owners are, on average, simply paying fees to the insurance company.

Keith's house is valued at $\pounds 400000$. The annual premium for insuring its value against destruction is $\pounds 100$. Past statistics show that the probability of destruction in any one year is 0.0002 .\\
(i) Draw a decision tree to model Keith's decision and the possible outcomes.\\
(ii) Compute Keith's EMV and give the course of action which corresponds to that EMV.\\
(iii) What would be the insurance premium if there were no fee for the insurance company?

For the remainder of the question the insurance premium is still $\pounds 100$.\\
Suppose that, instead of EMV, Keith uses the utility function utility $= ( \text { money } ) ^ { 0.5 }$.\\
(iv) Compute Keith's utility and give his corresponding course of action.

Keith suspects that it may be the case that he lives in an area in which the probability of destruction in a given year, $p$, is not 0.0002 .\\
(v) Draw a decision tree, using the EMV criterion, to model Keith's decision in terms of $p$, the probability of destruction in the area in which Keith lives.\\
(vi) Find the value of $p$ which would make it worthwhile for Keith to insure his house using the EMV criterion.\\
(vii) Explain why Keith may wish to insure even if $p$ is less than the value which you found in part (vi). [1]\\
(a) A national Sunday newspaper runs a "You are the umpire" series, in which questions are posed about whether a batsman in cricket is given "out", and why, or "not out". One Sunday the readers were told that a ball had either hit the bat and then the pad, or had missed the bat and hit the pad; the umpire could not be sure which. The ball had then flown directly to a fielder, who had caught it.

The LBW (leg before wicket) rule is complicated. The readers were told that this batsman should be given out (LBW) if the ball had not hit the bat. On the other hand, if the ball had hit the bat, then he should be given out (caught). Readers were asked what the decision should be.

The answer given in the newspaper was that this batsman should be given not out because the umpire could not be sure that the batsman was out (LBW), and could not be sure that he was out (caught).\\

\hfill \mbox{\textit{OCR MEI D2 2014 Q1 [16]}}